These two Paddy McGuinness articles are similar in date, title and message — that bullshitting about financial markets is equalled only by calls to regulate them —, so I figured maybe they “belong” together:
1. Impotent priesthood of the global casino (March 8, 1994)
2. Anarchy is the only constant in the economic jungle (June 28, 1994)
1.
Padraic P. McGuinness, “Impotent priesthood of the global casino,” The Australian, March 8, 1994, p. 47.
It would be funny if it were not so stupid, the way in which the mounting evidence of total confusion and ignorance of how the economy and the financial markets actually work is being adduced as a reason for more regulation of them.
But is always the way of the fearful and the ignorant to attempt to suppress any activity that makes them feel insecure and which they do not understand. The fact that the regulatory reflex is often expressed in terms of ancient economic theories or ideologies, all long since discredited or refined into something quite different, does not make it any the less absurd that we should propose to regulate something we do not comprehend.
It may simply be a version of the old religious response to the world: when in ignorance of how the world works, and impotent before its brute strength, pray to a higher power or perform magical rituals. For this is all most efforts at government regulation amount to: as with religion the only material benefits of such activities flow to the priesthood. To the extent that the faithful believe them, there is some comfort to be derived from the incantations and dancing around.
Among the priesthood of the modern financial world it is necessary to include the host of forecasters, economists, chartists, expert dealers, spokespeople, bureaucratic analysts in government and the central bank, economic commentators, tipsters, and the whole parasitic structure that exists on top of markets without actually participating in them.
It is perfectly clear from the behaviour of the markets over the past couple of weeks that nobody here, in the United States, or anywhere else has the slightest idea of what is happening to bond prices, interest rates, exchange rates, or economic growth rates, and why. We are getting the usual wise analyses from people who, if anyone took commentators and analysts seriously at all, would have long since been on the dole. But like priests they have perfected the technique of always sounding as if they know what is happening while explaining away what they got wrong last time.
The truth of the matter is that no one gets it right continually, or even often enough to make them rich. Or if anyone does, we will never know since they are certainly not going to be stupid enough to tell anyone else the secret.
This is not to say that there are no successful gamblers in the international financial casino. Of course there are, and they are the ones who astutely play the odds, gaining fine margins here and there, and doing better occasionally, like professional punters, when they get inside information, manage to nobble the favourite, or bribe enough jockeys enough to stay bought. Gambling is irresistible to most. But the real winners are those who never gamble with their own money, but simply charge the mug punters a commission for winning or losing on their behalf. This is what happens with regard to managed funds.
This is pretty much what the famous George Soros has done on a larger scale than most. The billion dollars he won on the collapse of the ERM has been counterbalanced in part by the $US600 million he has lost on the yen. (Whether these are American, Australian or Monopoly dollars hardly matters at this stage.)
In Australia, there is simply no highly reputed tipster or commentator (especially not the Reserve Bank) who has got the markets continually right. It is not enough to have been forecasting for the past 18 months to two years that there will be a market correction: a forecast this is wrong 364 days of the year and right on one day is worthless, unless you are able to name the day or the week when it will be right.
The casino element in the international financial markets is undeniable. But this in itself does not establish a case for regulation. If you cannot abolish the casino, and anyone who thinks it is possible to abolish world financial markets is truly in cloud cuckoo land, why regulate it? Are we in any case sure that casinos are a bad thing? True, again, when one observes the ever more refined derivatives markets, it is difficult not to feel that traders are doing the equivalent of betting on anything, including two flies crawling up a wall. But if there is a market for such a market, why not?
What is clear is that no one understands financial, commodity, or hedge markets. There has been an enormous amount of effort put into the subject by the rocket scientists, with their PhDs in pure maths or nuclear physics, and by the economists who think they ought to understand markets even though they are not much good at mathematics.
But there is fair chance that neither sophisticated analysis of derivatives and the fine distinctions made between aspects and types of risk, with each ever more refined aspect developing its own market, nor economic analysis has much to do with the behaviour of markets in the short term at all. In the long run, as is being painfully rediscovered, the markets tend to conform to “fundamentals”. This is not because the theorists are necessarily right about the fundamentals, but because of the simple fact of the Budget constraint, which causes markets to converge eventually, whether the operators are money market jocks or computer programs.
The day-to-day behaviour of markets in ordinary times, and even more in extraordinary times, is clearly a matter of mass psychology and hysteria. Economics and technical analysis can tell us nothing about the causes of the Dutch tulip mania of 1636; mathematics through innovations like chaos and complexity theory might be able to tell us something; but ultimately it is a matter of human psychology.
When, if ever, we can explain the causes of outbreaks of social discontent we will also be able to explain the causes of market bubbles.
Virtually the only good advice that an experienced economist can give to an operator in the financial market will be that it is likely to be just as profitable in the long run to make decisions to churn the funds every quarter, or year, as every day. But such advice will not generate a handsome income either for an economist, a commentator, or a trader. They all have to pretend that they are useful on a daily basis. Like priests, it is to their advantage to propitiate the gods all the time.
There are many occasions on which the only sensible advice is to sit tight. But it is almost impossible for any business to make such decisions, especially when all about them are losing their heads. Perhaps it is therefore useful to have a host of competing analysts and commentators contributing a cacophony of advice, since then a decision can be made to take a particular piece of advice which enables you to do what you wanted to do anyway.
However, the incentive system for dealers and traders is based not on their long-term performance but on short-term performance. It is in their interest, also, to pretend that decisions must be made hourly or daily if disaster is to be averted.
And the whole performance has to be monitored by regulators on the one hand, and economic and financial journalists on the other, who in the main do not understand what is going on any better than the participants, and know less about the details.
***
2.
Padraic P. McGuinness, “Anarchy is the only constant in the economic jungle,” The Australian, June 28, 1994, p. 53.
Who runs the economy, the Government or the financial markets? Who sets interest rates, the Reserve Bank or the markets? Do the bond markets run the world, or just Australia?
This is pretty much the crucial question which is being asked in the community about the present debate as to whether interest rates will or should rise. And it is a foolish question. For the correct answer is, neither. Or, more correctly, no one runs the economy or sets interest rates.
Naturally, the Government has an interest in pretending that it runs the economy. But all it doers is participate in the determination of some of the elements which feed into the ultimate result which we call the “economy”. The Government can influence the level of interest rates, the level of unemployment, the level of investment and so on — but it cannot determine the final outcome.
But at least the “Government” when we refer to the Budget and its fiscal policy “stance” is a definable entity. Of course, on analysis the Government is not a clear-cut entity at all — there are many hundreds of conflicting interests which lead up to the final fiscal policy stance and the levers of policy in the hands of the Government. It is typical of the Prime Minister that he should adopt this metaphor and believe that it refers to something real.
The net result of the many conflicting decisions taken by the Government is expressed in terms of the deficit figure, but even the Keynesians have known for years that the composition of this is as important as the number.
And what is the “market”, or the “markets”? They are not the young market jocks who seem to upset the politicians so much. The market, in the general sense, is a quite amorphous thing, an abstraction. It is simply a shorthand term for all the private sector participants in the billions of economic decisions which are made every day in the course of a complex economy. Indeed, the participants in the market include all the government agents in one sense or another.
So to speak of the market having any individuality or any volition of its own is as nonsensical as to speak of the electorate as some kind of gigantic beast which casts a single vote one way or another. We are dealing, rather, with the huge number of individual decisions, far more numerous and complex than the decisions made by voters, as to what they want to do with their money. The money markets and the financial markets generally are only a tiny aspect of this.
It has become perfectly clear that while economists can talk sensibly about the “fundamentals” of markets, they know very little about how markets work. Serious empirical research on this is still in its infancy. And it is also clear that behaviour of markets has as much to do with the psychology (and the psychology of groups or collective behaviour is even less understood than the economics) of mass behaviour as with economic fundamentals — which are themselves not easily defined in simple quantitative terms.
The Reserve Bank, which likes to pretend on occasions to a kind of superior knowledge, in fact knows as little about what is going on as most participants in the markets. It has, in principle, a better statistical picture of the totality of the market, and it has better information as to what other central banks are up to elsewhere in the world. But that is not a great deal.
So the reality is that we do not know what is going on in the markets, or why they are behaving the way they do at any point in time. Moreover, we do not know what the determinants of movements in interest rates and bond rates are. Over a long period, the serious economists can make some sense of what is, and has been, going on. They can even point to the general likely direction of things. But they cannot analyse and describe, let alone predict, the behaviour of the markets since they do not understand it.
However, if there is one great, stark outstanding truth of the 20th century it is that the people who propose to regulate markets, tell them what the outcomes of the interaction of policy and individual behaviour should be, have no claim to knowing anything about the subject whatsoever. And the people who have tried to abolish markets, like the communist dictatorships, have simply created markets which were even more complex and more impossible to regulate. The net result has been economic chaos, inefficiency and collapse.
When the popular theories about the “money power”, the profiteering banks, the international financial syndicates or powers, the international financial markets, the international Jewish-Communist-banking conspiracy, or whatever are trotted out they always start from a notion that markets can be defined and controlled. They cannot be. The notion that there were not active financial markets operating under the old highly regulated Australian banking system is nonsense — they were, of course, but behind a smokescreen of rationing. To discern what was really going on you often had to look at things like solicitor finance or hire purchase, the fringe areas, the grey and black markets, and the various discounts and loadings which affected different classes of borrowers according to the risk involved.
Thus when the medical profession and the banks were both highly regulated, a doctor was a preferred customer and got better terms and lower interest rates for small business borrowing than did a genuine entrepreneur. Most of the risk on both side was laid off through the regulatory system on to the rest of the community.
What we have been observing over recent weeks is yet another demonstration that no one, least of all the Government, the Reserve Bank or the would-be regulators, has the faintest idea what is going on. Nor have the market economists nor the media commentators.
What is amazing in this context, is that anyone should have the hide to try and tell us what to do about it. We know that total regulation is a disaster, and we know that partial regulation has never worked. Nevertheless, the politicians, the bureaucrats and the central bankers continue to tell us that they can be trusted to interfere. They cannot be.
When a Reserve Bank, a Treasury, a Government can tell us what will happen if they implement policy A or policy B, does it and then can convincingly claim that they were right, at that time we might begin to believe in the virtues of regulation.
In the meantime, the only sensible economic policy is one which emphasises the “safety net” features of the social welfare system, and tries to minimise the extent and frequency of fluctuation by offering some stability of policy.
But of course it is against human nature to admit that governments can affect but not determine economic outcomes, that central banks can influence the course of movement of interest rate outcomes but not determine their average level, and that markets and market jocks determine nothing whatsoever deliberately, by collective forethought. It is even more difficult to accept that every time human judgment has been substituted for market outcomes, the cost to the community has been immense.
